Pipeline companies Kinder Morgan Inc. (NYSE: KMI) and TransCanada Corporation (TSX: TRP)(NYSE: TRP) have faced a much tougher sell for their pipeline expansion plans in Canada than initially expected. However, the plans of both companies recently got a significant boost after Prime Minister Justin Trudeau reportedly told his administration to make the approval of these projects a top priority.
It’s a designation that could prevent these projects from facing the same fate as TransCanada’s Keystone XL project, which was rejected by the Obama administration late last year.
What changed?
The reason Trudeau is now convinced that Canada needs to build additional oil sands pipelines boils down to simple economics. In order to meet his ambitious economic growth targets, the country’s oil needs to be able to tap world markets, which means it needs more pipeline capacity. That will not only create jobs in the oil sands region as well as construction jobs along the pipeline routes as they are built, but it’ll also provide additional tax revenue that can be used to spur economic growth elsewhere.
That said, moving these projects from concept to approval is still much easier said than done. Kinder Morgan thought its Trans Mountain Pipeline expansion would be a slam dunk to be approved because it would basically follow the route of its existing pipeline. Instead, its opposition focused on those last few miles of deviation and basically put a stop to the project for the time being.
No more taking sides
Given the intense opposition to new oil sands pipelines, which has shifted public sentiment away from their approval, Trudeau’s government will need to mend a lot of fences in order to move forward. That will require a different approach than the one taken in the past by focusing on finding a common middle ground. That will mean finding an economically viable solution to the environmental sticking points, such as having a world-class oil spill response plan.
That said, finding solutions that are agreeable to both sides and still economically viable won’t be an easy task. Kinder Morgan’s Trans Mountain expansion has already seen its costs soar and is now expected to cost the company US$6.8 billion instead of the original US$5.4 billion estimate. While that’s partially due to the stronger U.S. dollar, that new figured does include some of the conditions that have been set on the project.
Meanwhile, the cost of TransCanada’s Energy East project is up by one-third to a staggering $15.7 billion due primarily to route changes that have been proposed to alleviate the concerns of those opposed to the project.
Despite those higher costs, both projects are currently expected to still be economically viable. That said, what remains to be seen is if the projects will still be viable in the future should their costs continue to escalate in order to meet the final conditions that would undoubtedly be placed upon them.
Some analysts suggest that Energy East’s price tag could top $19.3 billion when accounting for some of the additional costs that would need to be incurred to build this project. That’s a hefty price tag for any one company to swallow, even one as large as TransCanada, especially since it will be several years until the project starts throwing off cash flow.
Investor takeaway
While making these two pipeline projects a priority is an important step towards these projects finally being approved, it’s not reason for shareholders to rejoice. That’s because the final cost for these projects could end up being well above current estimates, which could significantly diminish the economics of these projects. That could lead to much lower future dividend growth than investors had hoped that these projects would deliver in the decade ahead.
